The World Bank and the International Finance Corporation have sent a blunt message to the world in their latest Doing Business report: the top priority, it says, is the need to create a favorable environment for small companies. For the first time in its 10 years of existence, the report focuses on conditions for them. And, in a clear sign that this business segment is crossing borders more frequently, the report provides a guide par excellence for those establishing operations outside of their home territory.

Small businesses in the United States (those with fewer than 500 employees) are not ignorant of this trend. On the contrary, they are setting the pace on globalization of aspects such as the penetration of small foreign businesses in Latin America — a process that is strengthening, with broad and growing potential.

The proliferation of free trade agreements with countries within the region is the main reason behind this dynamic. The North American Free Trade Agreement, which unites Mexico with the United States and Canada, is responsible for a large part of the transnational operations of small American businesses in Latin America. Nafta facilitates commercial operations between the United States and Mexico – a country which, in addition to its geographic proximity, constitutes the second most important Latin American market after Brazil.

Broadly speaking, trade agreements with Latin America have boosted the performances of small U.S. businesses, but have also been helped by other accords, such as those of mutual recognition, bilateral investment treaties, framework agreements for trade and investment, and the agreements of the World Trade Organization. These translate into advantages that include tariff reductions, the reduction or elimination of non-tariff barriers, better access to markets, easier interaction with customs, facilitation of trade, protection of intellectual property, a more efficient and transparent regulatory environment and mechanisms for conflict resolution.

In addition to the purely commercial elements, in the opinion of Juan Pablo Cuevas, director of Bank of America’s global transaction services for Latin America and the Caribbean, the determining factor for the greater presence of U.S. middle market companies in Latin America is: the displacement of China. For Cuevas, over the past 10 years, there has been an obvious increase in the number of U.S. middle market companies in Latin America that are responding to the redirection of investment that many large American companies made in China. These were a consequence of the smaller incentives the Asian giant offers today as part of its process of transition into a more developed economy.

“To take advantage of the commercial ties established more than 20 years ago – before so many companies moved their operations from the United States to China – middle market companies from all over the United States have been buying companies valued at between $30 million and $50 million in Latin America. They were improved by their knowledge and technology and were able to take advantage of this by providing goods and services to the large U.S. companies established in the region,” Cuevas says. His bank has vast experience in advising middle market companies in the processes of regional expansion.

This change of direction has taken place during a time of high stress for U.S. business leaders due to the prolonged financial crisis and the slow recovery of internal consumption in their own country. As with the large companies, small businesses have sought to open new markets to compensate for the reduction in internal demand for their goods and services. Latin America is thus seen as the most obvious option for launching an expansion for the new North American transnationals because, in addition to the trade agreements and geographic proximity, the region has experienced economic growth of up to five times greater than that of the United States in the last four years, opening commercial possibilities due to the economic transformations that this implies.

Willy Goméz, commercial banking senior vice-president, Southeast, HSBC Bank USA, is convinced that this is what drives the proliferation of investment by small businesses in Latin America. “The companies have seen that their ability to grow in the United States is very limited. This has led them to look at global markets, and Latin America is a good place to look at.

Many other aspects are impossible to ignore. For example, although it is not so evident, cultural closeness plays a very important role for a small business when it decides to launch a foreign operation, and here again Latin America offers unarguable advantages.

Authorities on this issue, such as Fritz-Earle McLymont, director of the National Minority Business Council (Nmbc), understand this. He says small U.S. businesses are especially well-positioned to take advantage of Latin American markets given that many of these companies share cultural relationships with Latin America.

Private institutions, such as the Nmbc and public entities including the U.S. Small Business Administration, the United States International Trade Commission (Usitc) or the United States Export-Import Bank promote and facilitate the international expansion of U.S. small businesses, and in turn become another driver of this new trend.

Behind El Dorado

Beyond the obvious opportunities offered by Mexico, the entire Latin American region represents an opportunity for small U.S. companies that they should not underestimate. Though it has a smaller per capita gross domestic product than Mexico, Brazil has almost twice its population, and together they represent about half of the region’s total population. All of Latin America, with the lone exception of Uruguay, has a middle class that has shown strong growth during the last decade, according to a World Bank study. This broadening of the middle class has obvious advantages in terms of the purchasing power of their populations and the expansion of business activities, elements that represent an enormous opportunity for U.S. small businesses.

In 2012, Mexico represented more than half of U.S. trade with Latin America and grew 7.1 percent compared with 2011, despite its established predominance, according to information from the U.S. Census Bureau compiled by our sister publication Latin Business Chronicle. In fact, 2012 was a good year in general for U.S. trade with Latin America, growing by 6.2 percent over 2011, thanks to a sizable increase of 9.3 percent in exports and a moderate increase of 3.7 percent in imports.

U.S. trade with its 10 main Latin American trading partners, which represents 94 percent of its total trade in the region, grew in every case except for the Dominican Republic, its tenth largest trading partner, which showed a slight contraction of 0.4 percent. Even more surprising was the growth of trade with Costa Rica and Chile, the sixth and fifth largest trading partners, where cross-border transactions of goods and services increased by 18.9 percent and 12.8 percent respectively.

The region’s fourth country in importance for trade with the United States – Colombia – also showed strong 9.6 percent growth in two-way trade, a sign that the free trade agreement that came into effect one year ago between those two countries is already showing results.

As for the Latin American countries that showed the strongest export growth by the United States, Venezuela stands out with an increase of 42.8 percent over 2011. It is followed by Cuba, where the recent changes in the management of its economy have enabled U.S. exports to be 28.1 percent higher than those of the previous year. Panama also grew in importance for U.S. exports, increasing by 20.3 percent during that period.

To what extent are U.S. small businesses participating in this change? Ninety-seven percent of all exporting companies in the United States are small businesses. Their exports represent 30 percent of the total value of exports from the United States and Mexico, the second preferred destination country of U.S. exports after Canada. In contrast, slightly more than half of the large companies export to five or more countries.

One way to quantify the export potential of these companies is to compare their activity with that of similar companies in other developed markets. According to a study by the Usitc, small businesses in the European Union represent 40 percent of total sales of manufactured products and 31 percent of the manufactured exports, while in the United States, small business represents only 19 percent of total sales of manufactured goods and 13 percent of the manufactured exports.

This margin of participation of small businesses in total exports is one of the primary goals that should be pursued to maximize these companies’ opportunities in the region. United States Trade Representative Ronald Kirk has been emphatic in repeating that small and medium-sized businesses are vital for the U.S. economy, and for that reason he has called for Usitc to develop more public policies to promote these exports, since “many analysts believe that the participation of small business in American exports could be higher if national policies were more clearly focused on the specific obstacles to exporting that confront these companies.”

Kirk has maintained this position since 2009. In a public letter issued that year, he said: “Given that the trade policies of the United States are designed to open markets, comply with trade agreements and support the orderly development of trade, it is fundamental that small business should benefit as much as possible from exporting goods and services to foreign markets and contribute as much as they can to the growth of total exports from the United States. To achieve this objective, certain export restrictions facing these companies will have to be eliminated.”

All of the foregoing is important if they are to take advantage of the opportunities that are opening today in Latin America, in sectors such as electrical products and electronics, computers, transportation machinery and equipment, and chemical products, areas of merchandise exports for small U.S. businesses that were found to have great potential in another Usitc study. This last study also found some revealing evidence: a good part of the growth of merchandise exports from U.S. small companies during the last 10 years has been due to an increase in the number of new small business exporters, while the growth of exports of the large companies has resulted almost exclusively from increases in the value of their existing exports.

One element worthy of attention is in the affiliates of small U.S. service businesses in Latin American companies. According to Usitc data, this type of company has foreign affiliates mainly in Europe (52 percent), followed by Asia and Oceania (24 percent), and Canada (15 percent), while Latin America and the Caribbean is a distant laggard on the list with only 8 percent.

Juan Pablo Cuevas of Bank of America says this trend is changing rapidly. “In the last two years, there have been easily more than 100 middle market companies of ours that have set up in Mexico, with another 50 or 100 in the rest of Latin American in this same period,” he says. As for the sectors where this is happening, Cuevas says there are differences among the countries, although sectors such as construction and technology are high in all Latin American markets.

As for specific cases, from his experience, Cuevas comments that “in Colombia the number of middle market companies that arrive to provide goods and services throughout the supply chain in the oil and gas sector has grown, something we have also noted in Brazil.” He also highlighted the boom of middle market U.S. companies providing financial services in Panama and Costa Rica, while in Costa Rica there is also much activity in the technology and communications sector. Chile represents an exceptional opportunity for the technology and communications sector for interested middle market companies.

Willy Goméz of HSBC says the sectors that traditionally have been the most popular for small U.S. businesses, such as private aircraft, cellular telephones, computers and printers, still provide excellent opportunities. As for the new winners, Goméz says there is potential in machinery for petroleum and gas, and the field that is opening now is for producers of auto parts. He also notes that “with the change that is taking place in China, some of the manufacturing of textiles is returning to Latin America.” He adds that “the financial sector is one of the important players, due to the opportunities in the strong capital markets of the region.”

In the field of financial services, meanwhile, there is a sub-sector that is increasing in the region due to the large number of innovative undertakings that are developing in every corner of Latin America: investment funds. On this theme, Manuel Malaret, director of promotions for small businesses of the CAF, the Latin American Development Bank, says he is surprised by the growth potential that risk capital funds have shown in the region.

From the standpoint of the CAF, Malaret says he supports such funds because he has found them to be the ideal mechanism for servicing large numbers of small businesses that CAF cannot help directly. “We support a large number of funds specializing in specific sectors, such as technology, biotechnology or communications, independent of whether the capital funding is Latin American or foreign,” he says.

The opportunities for small U.S. companies are countless, though this does not mean that jumping into the market in the hope of conquering Latin American markets is a guarantee of success. In addition to the obstacles that persist for doing business of any kind, large or small, in the region’s countries, the biggest difficulty for small transnational companies are on the ground, because local competition is becoming increasingly sophisticated and enjoys improved conditions that makes it stronger.

As Diego Rodríguez, director of commercial solutions for Visa, says, “In 2010, we conducted a study to understand how the small business exporters to Latin America were doing and we were surprised at the results. Even with practices of payments and collections that could be done more efficiently to increase their productivity, the export sector of the Latin American small businesses is very attractive.”

Álvaro Moreno reported from Miami.